In Depth on Measure Repeals Legislation that allows businesses to lower their tax liability

Ballot Measure:

Supplemental Information

Background

In reaching a budget solution for the fiscal year 2008-09, the state Legislature included three bills to reduce taxes for California businesses, which supporters alleged would stimulate economic activity even though these bills would not take effect until tax year 2011.

AB 1452 allows a business with a Net Operating Loss (NOL) to adjust its past two years’ tax liabilities by “carrying back” its NOL, and/or adjust its future tax liabilities by “carrying forward” its NOL over twenty years rather than ten years. It also allowed sharing of tax credits within groups of affiliated businesses.

ABx3 15 and SBx3 15 allow a business to choose between two options to determine the level of income that California can tax: a “single sales” factor or a “three-factor” formula (sales, property and payroll).

If Proposition 24 passes, these three business tax cuts would be repealed before they take effect in 2011. If it does not pass, the tax cuts will remain in effect.

Effects of Tax Policy on California’s Growth

The question whether the tax cuts proposed for repeal by Proposition 24 could stimulate economic growth continues to be debated by economists and policymakers. In a study, “No Free Lunch: Tax Cuts Widen Budget Gaps”, published in July 2010, the California Budget Project examined the argument that tax cuts pay for themselves in the form of increased economic activity. The study cites a Department of Finance analysis which provided “no evidence . . . that tax rate reductions . . . can in general ‘pay for themselves’,” and instead found that tax cuts would only modestly offset a portion of their direct revenue loss.

The switch from a “three-factor” to “single factor” method of calculating business income tax and how this would affect the economy has been the subject of two studies. In May 2010, the Legislative Analyst’s office released a study that found that a “formula with a higher weight on sales and lower weight on property and payroll promotes job growth to some extent,” and made a ballpark estimate that a mandatory single sales factor would create an eventual net gain of about 40,000 jobs based on the Franchise Tax Board’s latest cost estimates. The simulation also accounted for the impact of state spending cuts that would be needed to offset the revenue loss.

Another study published in June 2010 by the Marshall School of Business at the University of Southern California, examined five states which had made a mandatory switch to a "single-sales" factor. The report predicts that by switching to a "single sales" factor, California could stimulate business and industrial growth, leading to the creation of 144,000 permanent jobs in the next two years and an annual net tax revenue gain of $11 million to the state.

Such projections and productivity growth over the long term also depend on the quality of the state’s educational institutions and infrastructure. Compared with other states, California ranks 46th in per pupil spending, and, in the past two years during the ongoing budget crises, an estimated $17 billion has been cut from California’s education spending. Roughly forty percent of the anticipated annual revenue from Proposition 24 would go to the schools under the formulas of Proposition 98, while the remaining revenues would be available to the Legislature and the Governor for any purpose.

Funding State Services – Personal vs. Corporate Taxes

Over the past two decades, the cost of funding state services has shifted from corporate to personal income taxpayers. The Department of Finance estimates that personal income tax receipts will provide about 53 percent of General Fund revenues in 2009-10, up from 35 percent in 1980-81. For the same periods, corporate tax receipts are estimated to provide about 11 percent of General Fund revenues, down from 15 percent in 1980-81.

Where Do Tax Savings Go?

The Franchise Tax Board estimates that proceeds of the elective "single sales" factor, which represents more than half of the $1.3 billion cuts per year, would be concentrated among a very few large corporations. State law prohibits disclosure of the names of the firms that would participate in the state’s adoption of a "single sales" factor; however, estimates are that about 0.1 percent of California’s corporations (firms with gross incomes over $1 billion) would average cuts of $33 million per year by 2013-14.

Arguments In Support

Prop 24 ends $1.3 billion in special tax cuts for large corporations that don’t result in the creation or protection of a single job in California.

Prop 24 ensures that large corporations pay their fair share of state taxes at a time when California is making drastic budget cuts to public schools, health care and public safety.

California’s budget deficit is already breaking all records and these special tax cuts have not yet taken effect.

California’s competitiveness is being eroded by deeper and deeper cuts to public schools, health care, and public safety.

98% of California’s small businesses will get virtually no benefit from the tax cuts; only the top 2% of the biggest, wealthiest corporations will benefit.

These unfair business tax loopholes put an even bigger burden on the average individual taxpayer. When businesses pay less, individual taxpayers pay more.

Arguments In Opposition

When 2 million Californians are out of work, Prop 24 taxes new job creation, hits employers and small business with higher taxes, and stifles job growth.

States across the country have updated tax laws to attract and grow businesses and jobs. California finally did the same, but Prop 24 would repeal those updates.

Prop 24 would return California to an outdated formula that increases a business’s income taxes every time it creates a new job.

One study estimates 144,000 jobs would be lost if California repeals these tax changes.

More than half of the state’s private sector jobs are created by small businesses. Last year, small business bankruptcies in California rose 81%. The recent state tax update allows businesses to carry back net operating losses two years. Prop 24 takes away that lifeline.